The following anecdote is perhaps more revealing about Infosys than anything else. At a recent boardroom discussion held by a business television channel, the CEO and the CFO of Infosys gave divergent views on pricing — a rare phenomenon of the top two people in a company not being on the same page, that too at a public forum. While S D Shibulal, the CEO, maintained that pricing was down only for this quarter and in general, stable, V Balakrishnan, the CFO and a board member, said he was expecting pricing to decline four per cent for the rest of the year.

Observers say while the management may blame the current macro environment for its poor performance — which could be partly true — clearly, confusion at the top is marring the performance of the company.

Holding back bad news
What has really irked investors, analysts and the market more than just this doublespeak is the company’s sudden stand to not give a guidance (expectation) for the second quarter (July-September). This comes on the heels of Infosys missing its guidance five times for the past six quarters. Analysts are saying that FY13 will be similar to FY10 for the company, albeit with one major difference: FY13, and part of FY12, did have one big advantage — a depreciating rupee to the dollar. But even that doesn’t seem to be helping it these days. "There has been around a two per cent reported margin increase over the past four quarters, despite the 23 per cent rupee depreciation. For FY13 also, the company expects margins to be in a band of 50-100 bps vs last year’s, despite nearly 14 per cent INR depreciation built in," says Ashwin Mehta of Nomura Equity Research in his report.

Many in the investing community seem fed up. “Earlier, they were upfront with bad news. Now, instead of conveying what is happening, they are deferring the news. There's no doubt that their clients are facing issues, but there are internal problems,” says an analyst from a leading brokerage firm.

Adding to this tale of woe is a one-time revenue reversal of $15 million this quarter, which sent alarm bells ringing. Typically, in fixed-price contracts, companies bill clients on the basis of milestones achieved at intervals. In the case of Infosys, the company must have started work on one such deal and the unbilled revenues booked in the previous quarter as revenues. However, once billed, the client might have changed its mind and refusedto pony up. “Since in this case it would have been unbilled revenue, the hit is on the revenues and not on profit and loss. If it was billed to the client and was in the receivables category and payment did not come from the client due to whatever reason, then the company would have to take a hit on the P&L,” says an analyst on condition of anonymity.

IS FY13 SIMPLY FY10 ALL OVER AGAIN?

FY10

FY13F

Comment

$ revenue
growth (%)

3.0

4.2

Growth likely to be only marginally higher in FY13F

$/Rs

47.0

55.0

Rupee depreciation benefit
of 15% (FY13F over FY10)

Ebitda margin (%)

34.6

31.0

400-bp margin decline likely despite 15% rupee
depreciation benefit

EPS growth(%)

4.7

13.8

EPS growth likely higher in FY13F largely on
rupee depreciation

Constant currency
pricing decline

4.0

3.0

Constant currency pricing cut upwards of 3% likely in FY13F

Source: Nomura Research

A closer look at the firm’s top-10 clients shows the revenue contribution has remained stagnant, or come down, indicating the company has not been mining these accounts well.

CHANGING TACK: REVISED EARNINGS EXPECTATIONS, AGAIN

New

Old

Change (%)

FY13F

FY14F

FY13F

FY14F

FY13F

FY14F

Revenue ($ mn)

7,288

8,055

7,424

8,275

-1.8

-2.7

Revenue (Rs cr)

39,800

42,700

40,600

43,800

-1.9

-2.7

Ebitda margin (%)

31

30

32.8

31.5

-180*

-160*

Tax rate (%)

28.7

28.0

29.0

28.0

-30*

0*

Diluted EPS (Rs )

165.6

174

178.1

184.5

-7.0

-5.7

*Basis points Source: Nomura Research, estimates

Cutting back on marketing
"The bigger concern for me is under-spending in sales and marketing,” says Sudin Apte, co-founder and managing director of advisory firm Offshore Insights. “Earlier, the company used to spend less —5.3 to 5.4 per cent of the revenue — on sales & marketing. Now, it has gone down to 4.8 per cent," he added.

Basab Pradhan, global sales and marketing head, however, defends his company’s performance, “A lot depends on where you stand and what your business does and how your customers are doing. We have a set of clients that are going through market perturbations and it is making them under-confident about future spends. We thought the US was on the road to recovery, but that is not happening. If Europe sneezes everyone catches cold. We have higher client spending in the discretionary spends. We have also stated that we are going through a transition, we want to be a different company and have laid out the strategy. Unfortunately, this transition has come during economic uncertainty,” he says.

Hit by discretionary spends
It is a fact that Infosys has a higher exposure (around 36 per cent) to discretionary spends, which takes a hit in downturns. Its biggest vertical, banking, financial services and insurance, and consulting and systems integration, also have a high proportion of discretionary business which, in turn, is impacting the company. But analysts point out that pain in the business does not stop a company from running a tight ship.

“Infosys can tighten its belt by improving its utilisation percentage — 67.2 per cent. The offshore percentage can be increased. Even the fixed-priced project is low. TCS, for instance, has been running a tight ship and, hence, is able to show improvement in margin, but Infosys seems lost,” says a senior analyst of a private bank’s brokerage house.

Infosys has also failed to tap high-growth areas like infrastructure management. Analysts also fear the focus on its product, platform and solutions (PPS) segment is impacting its core business. "At just two per cent of revenues (excluding Finacle), Infosys’ fortunes in the next three years will overwhelmingly depend on how the other 98 per cent shapes up. Companies cannot allow their core to suffer. If the core declines in strength, then PPS cannot step in to compensate, as it is too small. PPS is more a growth-topper at this evolutionary stage, or a value-added wrapper around the core," says Viju George and Amit Sharma of J P Morgan in their report.

With revenues of $7 billion and a cash pile of $3.5 billion, no one is writing off Infosys as yet. But the company needs to get its house in order very quickly to quell rising anxieties about long-term health.

What ails Infosys?

Consecutive quarters of missed targets alarm investor community

The following anecdote is perhaps more revealing about Infosys than anything else. At a recent boardroom discussion held by a business television channel, the CEO and the CFO of Infosys gave divergent views on pricing — a rare phenomenon of the top two people in a company not being on the same page, that too at a public forum.

The following anecdote is perhaps more revealing about Infosys than anything else. At a recent boardroom discussion held by a business television channel, the CEO and the CFO of Infosys gave divergent views on pricing — a rare phenomenon of the top two people in a company not being on the same page, that too at a public forum. While S D Shibulal, the CEO, maintained that pricing was down only for this quarter and in general, stable, V Balakrishnan, the CFO and a board member, said he was expecting pricing to decline four per cent for the rest of the year.

Observers say while the management may blame the current macro environment for its poor performance — which could be partly true — clearly, confusion at the top is marring the performance of the company.

Holding back bad news
What has really irked investors, analysts and the market more than just this doublespeak is the company’s sudden stand to not give a guidance (expectation) for the second quarter (July-September). This comes on the heels of Infosys missing its guidance five times for the past six quarters. Analysts are saying that FY13 will be similar to FY10 for the company, albeit with one major difference: FY13, and part of FY12, did have one big advantage — a depreciating rupee to the dollar. But even that doesn’t seem to be helping it these days. "There has been around a two per cent reported margin increase over the past four quarters, despite the 23 per cent rupee depreciation. For FY13 also, the company expects margins to be in a band of 50-100 bps vs last year’s, despite nearly 14 per cent INR depreciation built in," says Ashwin Mehta of Nomura Equity Research in his report.

Many in the investing community seem fed up. “Earlier, they were upfront with bad news. Now, instead of conveying what is happening, they are deferring the news. There\'s no doubt that their clients are facing issues, but there are internal problems,” says an analyst from a leading brokerage firm.

Adding to this tale of woe is a one-time revenue reversal of $15 million this quarter, which sent alarm bells ringing. Typically, in fixed-price contracts, companies bill clients on the basis of milestones achieved at intervals. In the case of Infosys, the company must have started work on one such deal and the unbilled revenues booked in the previous quarter as revenues. However, once billed, the client might have changed its mind and refusedto pony up. “Since in this case it would have been unbilled revenue, the hit is on the revenues and not on profit and loss. If it was billed to the client and was in the receivables category and payment did not come from the client due to whatever reason, then the company would have to take a hit on the P&L,” says an analyst on condition of anonymity.

IS FY13 SIMPLY FY10 ALL OVER AGAIN?

FY10

FY13F

Comment

$ revenue
growth (%)

3.0

4.2

Growth likely to be only marginally higher in FY13F

$/Rs

47.0

55.0

Rupee depreciation benefit
of 15% (FY13F over FY10)

Ebitda margin (%)

34.6

31.0

400-bp margin decline likely despite 15% rupee
depreciation benefit

EPS growth(%)

4.7

13.8

EPS growth likely higher in FY13F largely on
rupee depreciation

Constant currency
pricing decline

4.0

3.0

Constant currency pricing cut upwards of 3% likely in FY13F

Source: Nomura Research

A closer look at the firm’s top-10 clients shows the revenue contribution has remained stagnant, or come down, indicating the company has not been mining these accounts well.

CHANGING TACK: REVISED EARNINGS EXPECTATIONS, AGAIN

New

Old

Change (%)

FY13F

FY14F

FY13F

FY14F

FY13F

FY14F

Revenue ($ mn)

7,288

8,055

7,424

8,275

-1.8

-2.7

Revenue (Rs cr)

39,800

42,700

40,600

43,800

-1.9

-2.7

Ebitda margin (%)

31

30

32.8

31.5

-180*

-160*

Tax rate (%)

28.7

28.0

29.0

28.0

-30*

0*

Diluted EPS (Rs )

165.6

174

178.1

184.5

-7.0

-5.7

*Basis points Source: Nomura Research, estimates

Cutting back on marketing
"The bigger concern for me is under-spending in sales and marketing,” says Sudin Apte, co-founder and managing director of advisory firm Offshore Insights. “Earlier, the company used to spend less —5.3 to 5.4 per cent of the revenue — on sales & marketing. Now, it has gone down to 4.8 per cent," he added.

Basab Pradhan, global sales and marketing head, however, defends his company’s performance, “A lot depends on where you stand and what your business does and how your customers are doing. We have a set of clients that are going through market perturbations and it is making them under-confident about future spends. We thought the US was on the road to recovery, but that is not happening. If Europe sneezes everyone catches cold. We have higher client spending in the discretionary spends. We have also stated that we are going through a transition, we want to be a different company and have laid out the strategy. Unfortunately, this transition has come during economic uncertainty,” he says.

Hit by discretionary spends
It is a fact that Infosys has a higher exposure (around 36 per cent) to discretionary spends, which takes a hit in downturns. Its biggest vertical, banking, financial services and insurance, and consulting and systems integration, also have a high proportion of discretionary business which, in turn, is impacting the company. But analysts point out that pain in the business does not stop a company from running a tight ship.

“Infosys can tighten its belt by improving its utilisation percentage — 67.2 per cent. The offshore percentage can be increased. Even the fixed-priced project is low. TCS, for instance, has been running a tight ship and, hence, is able to show improvement in margin, but Infosys seems lost,” says a senior analyst of a private bank’s brokerage house.

Infosys has also failed to tap high-growth areas like infrastructure management. Analysts also fear the focus on its product, platform and solutions (PPS) segment is impacting its core business. "At just two per cent of revenues (excluding Finacle), Infosys’ fortunes in the next three years will overwhelmingly depend on how the other 98 per cent shapes up. Companies cannot allow their core to suffer. If the core declines in strength, then PPS cannot step in to compensate, as it is too small. PPS is more a growth-topper at this evolutionary stage, or a value-added wrapper around the core," says Viju George and Amit Sharma of J P Morgan in their report.

With revenues of $7 billion and a cash pile of $3.5 billion, no one is writing off Infosys as yet. But the company needs to get its house in order very quickly to quell rising anxieties about long-term health.